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Sydnee Gatewood
Sydnee Gatewood
Articles (2594) 

Dodge & Cox Global Stock Fund's Semi-Annual 2020 Shareholder Letter

Discussion of markets and holdings

To Our Shareholders

The Dodge & Cox Global Stock Fund had a total return of –17.0% for the first six months ended June 30, 2020, compared to a return of –5.8% for the MSCI World Index.

Market Commentary

In the first quarter of 2020, the coronavirus (COVID-19) pandemic evolved into a global threat that disrupted major economies and greatly increased volatility in the financial markets. After declining sharply in the first quarter, the MSCI World rebounded strongly in the second quarter, with every sector and region posting positive returns. Not surprisingly, some of the hardest hit sectors in the first quarter—traditional value sectors such as Energy, Materials, and Industrials—were among the better-performing sectors in the second quarter. Meanwhile, Information Technology, a longtime leader that has helped fuel the “growth” side of the market, regained its position as the best-performing sector of the MSCI World. Market sentiment benefited from massive government fiscal and monetary stimulus programs, as well as optimism around potential health care solutions, even before earnings recovery materialized.

Over the last decade, the MSCI World Value Indexa has underperformed the MSCI World Growth Index by an astounding 142 percentage points cumulatively.b During this challenging period for value investors, the Fund has underperformed the broad-based MSCI World, but outperformed the MSCI World Value Index by 31 percentage points and MSCI ACWI Value Index by 44 percentage points.c

The valuation gap between value- and growth-oriented stocks is almost four standard deviations wide, nearly a record spread: the MSCI World Value trades at 15.1 times forward earnings compared to 29.4 times for the MSCI World Growth.d This valuation disparity has created ample investment opportunities for value-oriented investors like Dodge & Cox.

Investment Strategy

We Are Finding Attractive Opportunities in Volatile Markets

Amid the extreme market volatility caused by COVID-19, our team of global industry analysts continues to review existing portfolio holdings and present many new opportunities. In addition, they are working closely with our fixed income analysts to stress test COVID-impacted stocks, especially in the Energy and Financials sectors. Such collaboration is a hallmark of our investment process and is important during periods of market dislocations, as it was during the 2008-09 global financial crisis and the last oil price downturn in 2015-16. This analysis has helped the Global Equity Investment Committee shift the portfolio based on COVID-impacted fundamentals and valuations.

In Energy, for example, our team has analyzed each holding’s sources and uses of cash across a variety of oil price scenarios. We have focused on sources of liquidity, including further reductions in capital expenditures, dividend cuts, asset sales, and debt and equity issuance. We continue to have frequent discussions with management teams at many energy companies, as well as independent board members, service providers, and industry experts in order to gauge current operating conditions and downside risks. As a result, our Global Equity Investment Committee selectively added to the Fund’s energy holdings during the depths of the downturn in the first quarter, which contributed to outperformance in the second quarter.

In Financials, banks entered this crisis in a stronger position than prior to the global financial crisis, when problems in the financial system impacted the broader economy. This time around, we think banks are well positioned to help serve as part of the solution to the economic impact of the pandemic. Nonetheless, we have stress tested the Fund’s financials holdings at extreme conditions, including negative benchmark yields, significant credit losses, and volatile capital markets. While we have yet to see a rebound in performance, stress testing, along with the insights gained from the continued efforts of our financials team, suggests valuations and performance should eventually recover as the strength of these institutions is recognized.

During the first half of 2020, we trimmed higher valuation areas of the portfolio that had performed strongly (e.g., Health Care, more expensive technology-related companies), while leaning further into value opportunities in the market such as Materials, Financials, and lower valuation Technology, Media, & Telecommunication Services. We added to existing holdings, including Banco Santander, Comcast, Dell Technologies, HP Inc., Itau Unibanco, and Suncor Energy.e We also started seven new positions in the Fund:

  • Facebook (NASDAQ:FB) (Communication Services): a social media conglomerate with an estimated three billion users across all platforms.
  • Glencore (LSE:GLEN) (Materials): a leading integrated producer and marketer of mineral, energy, and agricultural products.
  • LyondellBasell (NYSE:LYB) (Materials): one of the world’s largest commodity chemical companies.
  • MetLife (NYSE:MET) (Financials): one of the largest global providers of insurance, annuities, and employee benefit programs with 90 million customers in over 60 countries.
  • Nutrien (TSX:NTR) (Materials): the largest agricultural fertilizer producer in the world.
  • Prudential plc (LSE:PRU) (Financials): a UK-based insurance company with a strong franchise in growth markets within Asia.
  • VMware (NYSE:VMW) (Information Technology): one of the largest infrastructure software companies globally.

These new holdings can be divided into two principal groups: 1) high-quality businesses with valuations we had previously deemed to be too high, and 2) companies with stock prices that have declined sharply due to the pandemic.

In the first category, we established a position in Facebook, for example. We invest in companies based on our assessment of the value of their franchise and our estimate of the potential growth in future earnings and cash flow. When valuations come down and we are able to buy aboveaverage growth at a discount, we see opportunity. Facebook has significant growth opportunities and a durable franchise that would be extremely difficult to replicate. The company has compounded revenue growth at more than 40% over the past five years, while still generating significant amounts of free cash flow. However, fears about advertising spending, political controversy, and possible regulatory changes caused its stock to trade at a below-market valuation. We concluded that this was an opportune time to initiate a position in the stock (a 1.1% position in the Fund on June 30).

In the “pandemic victim” category, we took advantage of price dislocations to start a position in Nutrien, for example. The company’s share price declined 29% in the first quarter despite its strong financial position. Since agriculture is considered an essential business, all of Nutrien’s facilities continued to run on normal operating schedules through the spring planting season with sustained farmer demand. Commodity fertilizer prices have weakened somewhat; however, the company believes little supply is coming over the next three to four years and fertilizer prices should rise. We believe Nutrien (a 0.9% position in the Fund) is an attractive long-term investment opportunity.

The Fund Is Positioned in Areas of Opportunity with Various Investment Themes

While the portfolio remains tilted toward Financials, Energy, Communication Services, and Health Care, the Fund is broadly diversified with exposure to many different investment drivers. To help illustrate the point, below we divide the Fund’s portfolio into three groups to compare their exposures to that of the benchmark.

The first group is composed of sectors where we have found the largest number of attractive investment opportunities, and where the Fund is overweight relative to the MSCI World (55% of the Fund’s net assets versus 28% of the MSCI World). Unsurprisingly, it includes deeper-value portions of the market such as U.S. Financials (valuations continue to be depressed while company fundamentals remain healthy), European and UK Financials (fundamentals have improved, but perceptions have not), and Energy (at extremely low valuations by historical standards). These were the worst-performing sectors of the market during the first quarter. However, this group also includes companies with strong long-term growth prospects such as Chinese and U.S. internet holdings with reasonable valuations, dominant positions, and long-term secular growth opportunities.

The second group includes market sectors where we have found a reasonable number of attractive opportunities, comprising 29% of the Fund’s exposure, a similar level to the MSCI World’s exposure. Examples include Health Care, which is defensive in nature, but also Materials, which is economically sensitive. Within Materials, the Fund holds investments in market-leading companies in an array of different areas, from lowcost producers of copper (Glencore) to building materials (Cemex and LafargeHolcim) to chemicals with strong returns on capital and/or attractive earnings growth (Celanese, Linde, and LyondellBasell) and crop nutrients (Nutrien).

The third group includes market sectors where we have found fewer opportunities, including industries often viewed as bond proxies, such as Consumer Staples and Utilities. Many of the companies in these industries trade at higher valuations relative to their history in this period of ultralow interest rates and economic uncertainty. As a result, the Fund is underweight this group (16% of the Fund versus 43% of the MSCI World).

In Closing

As a value-oriented, active manager, we continue to believe now is an opportune time to be invested in value stocks. Overall, we remain optimistic about the long-term outlook for the Fund, which trades at a significant discount to the overall market: 13.1 times forward earnings compared to 20.2 times for the MSCI World.

Markets and valuations can change swiftly and without warning, so we believe it is important to maintain a long-term outlook, especially in the midst of volatility and uncertainty. We have found that patience and persistence are essential to long-term investment success. We encourage our shareholders to take a similar view.

Our thoughts are with all the individuals and the families of those who have suffered from COVID-19, and we also express our gratitude to the dedicated health care workers and first responders battling on the front lines of this pandemic. We wish everyone the best during these challenging times.

Thank you for your continued confidence in our firm. As always, we welcome your comments and questions.

For the Board of Trustees,

Charles F. Pohl, Chairman

Dana M. Emery, President

July 31, 2020

a Value stocks are the lower valuation portion of the equity market, and growth stocks are the higher valuation portion.

b The MSCI World Growth Index had a total return of 236.0% from June 30, 2010 through June 30, 2020 compared to 94.4% for the MSCI World Value Index.

c The Dodge & Cox Global Stock Fund had a total return of 125.5% from June 30, 2010 through June 30, 2020 compared to 94.4% for the MSCI World Value Index and 81.6% for the MSCI ACWI Value Index.

d Unless otherwise specified, all weightings and characteristics are as of June 30, 2020.

e The use of specific examples does not imply that they are more or less attractive investments than the portfolio’s other holdings.

About the author:

Sydnee Gatewood
I am the editorial director at GuruFocus. I have a BA in journalism and a MA in mass communications from Texas Tech University. I have lived in Texas most of my life, but also have roots in New Mexico and Colorado. Follow me on Twitter! @gurusydneerg

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